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Pension withdrawal and misinterpreted tax implications

Jonathan Watts-Lay
pension strategy

A recently conducted a poll revealed that 91 percent of employers believe that employees do not understand the tax rules when withdrawing money from their pension. Contributor Jonathan Watts-Lay, Director – WEALTH at work.

Unfortunately, these findings could mean that many employees will pay more tax than they need to at-retirement, ultimately resulting in less income in retirement than what could have otherwise been achieved.

The Office for Budget Responsibility reported in October that the Treasury will net an extra £400m in revenues raised from the pension freedoms in the 2018/19 tax year, which is 50 percent more than forecast – indicating that individuals are in fact, paying tax when it could have been avoided.

It’s clear that employees and members need to understand the tax implications around accessing their retirement savings. For example, do they know that typically only the first 25 percent of a defined contribution pension is tax free and that the remaining 75 percent is taxed as earned income? 

Additionally, many don’t realise that they could potentially reduce or even eliminate tax charges on their retirement income by utilising the tax allowances and reliefs available. For example, it may be beneficial to draw money from taxable savings first rather than from the tax efficient wrapper of a pension. I cannot stress enough the importance of careful tax planning!

I believe that all employees and members should receive support before they take any income from their pensions or indeed any other sources of retirement income – whether that is financial education or guidance, or even regulated advice for more complex decisions.

It’s now becoming widely recognised that there are specialist providers available to deliver these services to help employees and members to make informed decisions at-retirement. However, there is still a long way to go to ensure that all individuals are receiving the support that they deserve.

Statistics quoted are from a poll carried out on the ‘WEALTH at work’ website from December 2018 until February 2019. The poll asked ‘Do you believe that employees understand the tax rules when withdrawing money from their pension?’ and received 70 responses. 

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